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Tuesday, January 1, 2013

The Budget Deal: What We Have Left Undone

Making fiscal policy is never going to be easy, but it would be
easier if we broke the process down into a logical sequence of steps.
Here are those steps, as I see them:

Decide how large a government we want in terms of government
purchases and transfer payments. Any such number will necessarily have
to be a political compromise, because not everyone will agree, but the
result should be consistent with inescapable realities such as
demographic trends.

Agree on a set of budget procedures for prioritizing line items
within the constraint imposed by (1), and then follow the agreed
procedures.

Determine the tax revenue needed to support the desired level of
spending. This amount should be consistent with long-term considerations
of sustainability.

Agree on a set of rules for adjusting spending and revenue over the
business cycle. The rules should allow for a prudent amount of cyclical
stimulus and restraint as appropriate, while maintaining consistency
with decisions (1) and (3).

Agree on a tax structure that collects the amount of revenue
required by (1), (3), and (4) in a way that is consistent with
efficiency (broadest feasible base, lowest feasible marginal rates) and
fairness (another political compromise).

Which of these five steps did Congress accomplish in 2012? Not one of
them. That conclusion will hold whether or not the House approves the
last-minute stopgap measure passed by the Senate on New Year’s Eve.

In the consensus view, two things are holding back the recovery. One
is the fear of an “austerity bomb”—a dose of British-style front-loaded
austerity early in 2013, when what the economy really needs is a fix for
its long-run inability to manage its budget. The other is sheer
uncertainty—how many kilotons of fiscal TNT? Will it be all cuts? If so,
which programs will be hit? If revenue is to rise, how much will come
from structural tax reform and how much from increases to marginal
rates? The New Year’s deal does nothing to answer these questions. All
it does is to ensure that we go through the whole exercise again at
another midnight a couple of months from now.

So here’s a resolution for the Honorable Members of the incoming
Congress: Let’s do in the New Year those things which we left undone in
the old. All five of them.

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